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WLB - Westmoreland Coal Company


claphands22
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With coal stocks down significantly and major coal companies filing for bankruptcy, it might be possible Westmoreland is a baby being thrown out of the bathwater.  The company currently trades for $13.75 and has a levered FCF of $3.27 per share, for a 24% yield.

 

Westmoreland is a North American coal company that operates differently than most competitors. Most of their operations are mine-to-mouth, where they get paid on a cost + ROI basis. They also have a much longer look out basis because their contracts are generally 10+ years long. This gives much better visibility in terms of cashflow than most commodity companies. (1)

 

In a Financial Post Article, the CEO talks about his strategy of looking for abused assets and then dramatically decreasing overhead.  I suggest reading the article to get a better feel for the manager.  (2)

 

Westmoreland came to my attention when a large investor posted a 13D with a letter attached. Here is a subsection of that letter. (3)

 

The math for the $31 minimum price is straightforward. 2015 expected cash flow per share is $3.62. Westmoreland can expect an additional $1.00 per share from the San Juan transaction, and in 2018, the Coal Valley loss will be removed. The resultant cash flow per share in 2018 is therefore $5.62. Using a seven times free cash flow multiple and deducting the $45 million operating loss from Coal Valley for the next 30 months yields a $36.84 per-share value. A more conservative multiple of six times cash flow yields $31.22 per share. This value does not include any consideration for the ROVA assets, which in 2019 can likely be sold for another $2 or $3 per share. Nor does it include any value for the carbon activation facility projected to come on line by 2018.

 

During the last conference call the CEO also seem baffled by the divergence of the stock price and what he believed to be the underlying economic value of the business. (4)

 

We have seen several of the larger operators and the industry’s equity values plummet to close to $1. Companies that had multibillion dollar market caps as recently as 12 or 18 months ago are now down in the $200 million or $300 million range. And every time we look at that at Westmoreland, I think we understand why that’s occurring, but it’s puzzling to us that we get dragged down with them, because our business model is so different. But it’s the reality of the marketplace and I believe that overwhelmingly negative sentiment towards coal has certainly had an impact on our equity value. It’s very difficult for me to justify what our stock price is on any metric basis. It’s actually more like figuratively absurd from where I sit today.

 

There was a write up on VIC, when the shares were trading for $34.65 a share. With a value tag around $50 a share. (5)

 

Although, more research needs to be done and my own understanding of coal mining is extremely limited, this idea smells very cheap. The business seems differentiated from most of the players that are failing, management comes off competent and price looks cheap relative to cash flow abilities.

 

If anyone has any thoughts, I would appreciate hearing them.

 

1 http://westmoreland.com/wp-content/uploads/2015/06/barclays-conference-presentation-june-2015.pdf Most recent investor relation presentation

2. http://business.financialpost.com/news/mining/pdac-2015-westmoreland-ceo-a-rising-star-in-a-slumping-coal-sector

3. http://www.sec.gov/Archives/edgar/data/106455/000119380515001280/e613955_13da-westmoreland.htm

4. http://seekingalpha.com/article/3355935-westmoreland-coals-wlb-ceo-keith-alessi-discusses-q2-2015-results-earnings-call-transcript

5. http://www.valueinvestorsclub.com/idea/WESTMORELAND_COAL_CO/119964

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I have been following the industry as sentiment continues to worsen. Even if they had a truly different business model, we're talking about a highly levered, cyclical, commodity business with significant challenges going forward. It's amazing to me how much cash flow all of these companies generated just 2-3 years ago. I know less about the met coal market but as far as thermal coal goes utilities continue to shift away from coal to natural gas and that trend is unlikely to stop or slow. A plausible scenario is that 5-10 years from now we continue to get 25-30% of our power gen from coal but it is all or mostly supplied by private or bankrupt coal miners.

 

I initially thought that coal equities could be an interesting speculative bet at some point (my focus has been on Cloud Peak Energy, CLD) but I'm leaning towards the thought that the equity is not ownable or a trading security at best. I could however, own some distressed bonds in this space but the price would need to be lower than today's levels.

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I own a 2% position in the BTU 7 7/8% of 2026.

 

I bought these @ $37 and sold BTU calls against them to partially hedge it. the stock dropped dramatically and a I  basically made all that premium and the bonds dropped to $27 now. So the  bonds are currently @ 3.4 yrs of coupon. I expect BTU (given their liquidity and size and positioning relative to Walter, Alpha, and Arch) to at least last 2 more years, maybe even not file BK. Either way, I think I'll be positioned in these for a very very low recovery rate (althou 0% recovery is certainly not unheard of in coal bankruptcies, just look at the unsecs of Alhpa and Walter).

 

Just wanted to point out that maybe you should compare something like Westmoreland to the BTU unsecureds @ 29% current yield. Maybe not comparable at all though.

 

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@valuedontlie The value proposition of WLB depends how truly differentiated their business model is. Interesting thoughts on bonds, thepupil makes a similar point.

 

@thepupil Maybe BTU's 29% unsecured loan gives rationality to the 24% equity of MLB? BTU and MLB seem dramatically different from just glancing at their respective IR presentations. BTU seems to be more dependent on exporting coal and the vagaries of the commodity price whereas WLB tends to have mines extremely close to their customer's operations, with very long term contracts.

 

 

 

 

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WLB just closed their transaction with their MLP subsidiary but, WLB's holding in WMLP + cash recently received is higher than WLB current market value.

 

WLB ownership of WLMP (19.8M*7.81) equates to 154.64M

WLB received 115M in cash from WLMP from the recent drop down.

WMLP ownership + cash (269.6) > WLM current market cap of 216M

 

Still smells very cheap.

 

http://www.marketwatch.com/story/westmoreland-completes-contribution-of-kemmerer-mine-to-westmoreland-resource-partners-lp-2015-08-04  (Info on drop down)

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In the 10-Q, I'm seeing negative FCF through 6 months: 12MM Cash from operations and PP&E of 38MM.( The 38MM is in line with the VIC projections.)

 

What am I missing in terms of the positive FCF numbers being bandied about in this thread-how are these being calculated?

 

Interesting idea, thanks for starting it.

 

 

 

 

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So, assuming a conservative EBITDA, and assuming the odds of achieving these earnings are fairly high, the company appears fairly cheap. But what about that stock price build up in 2014? And no net income to speak of the last few years, are we to ignore it?

 

        2015 2016 2017 2018

EBITDA   200 220           230 240

cash burns  20         20           20         5

sus capex 76.5       82.5         82.5 82.5

ebit       103.5 117.5 127.5 152.5

int ex 90         85         80         80

owners

earnings 13.5       32.5         47.5         72.5

 

These are crude numbers, I have to do more research on the Coal Valley mine, drop downs, interest expenses, and sustaining capex for 2016+. But a DCF analysis for a recovery would sport a market cap of around $500 million,about double the current market price.

 

If the VIC write up predicts a $50 share value, the EBITDA numbers would be on the high-end of management's guide and be betting on improved market conditions. Furthermore, the private investor, any source if he has a good track record? The "FCF" is severely clouded by all the recent acquisitions and predicted strong Q4 backlog of coal sales. Definitely need to do more research on management to see if they live up to their goals and achievements to have more confidence in their numbers. But, the interview appears to be a good sign, as well as do the improvements at the previous Chevron mine  and Canadian mines which appear to be meaningful contributors to the company's bottom line from 2012-on-wards.

 

 

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I like the idea, and to a certain extent they  do have a slightly different business model than other coal producers.  Given the nature of the business and the on-site location of the feedstock, I don't think the generating units for which they supply coal will transition to gas.  (Most generating units that have transitiioned to gas have done so because gas is a cheaper feedstock AND because you can operate a gas-fired plant with 10%-25% of the employees that are needed to operate a coal-fired plant.)

 

However, in order to get comfortable with this idea, you essentially have to look at the 36 generating units for which they are the coal supplier and get a better understanding of how the US-based units will fare under the new CO2 regs that are being promulgated by the EPA.  The tricky thing with the new EPA regs is that the states are assigned CO2 reduction targets, and are given some latitude in how to meet the targets.  Some states may meet the targets by reducing power leekage on transmission lines, while other states may meet the targets by requiring reduction in CO2 emissions. 

 

Given the nature of the EPA regs, my bigger concern with this idea is that it will be cheaper to comply with the new EPA regs by retiring coal-fired units rather than upgrading them.  If you don't think this will happen, than WLB truly is a baby being thrown out with the bathwater         

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  • 3 months later...

Coal is a risky bet. When hedges roll off for a lot of companies it will be mayhem.

 

Debt looks interesting.

 

Recently bought small chunk of CLD 2019 bonds. 60 (100 par) 8.5% coupon.

 

I'd be very wary of financial contracts in capital intensive industries. BK companies can't comply w/financial contracts.

 

Reminds me of the Mohnish Pabrai stock pick about the regional airline leasing company that sunk after the BK of a few airlines. Forgot the name, but it was a big miss.

 

I'd go for the cheapest coal company you can find that is most conservatively indebted. My 2c.

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I'd go for the cheapest coal company you can find that is most conservatively indebted. My 2c.

 

That's like finding a needle in a haystack! Hell, I'm glad I never made an investment in this one. But it is now 50 percent cheaper or less expensive, depending your view of their financials.

 

A pure coal company just doesn't make sense to me, the industry outlook is dire. Maybe Teck Resources adds some diversity risk, with the ever slumping copper, zinc, and met coal.

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Three big questions remain with WLB:

 

Their FCF has been negative both in 2014 and through 3Q '15. Will that continue?

 

The huge debt load. Yikes.

 

Management seems to look for M and A at every turn and is shunning seemingly the best investment of all (ostensibly); it's own stock. Are the incentives of the management and shareholders aligned? Not so sure.

 

Btw, if you answered No, not as bad as advertised and I don't mind it's cheap enough to the above questions, by all means, load up.

 

 

 

 

 

 

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I'd go for the cheapest coal company you can find that is most conservatively indebted. My 2c.

 

That's like finding a needle in a haystack! Hell, I'm glad I never made an investment in this one. But it is now 50 percent cheaper or less expensive, depending your view of their financials.

 

A pure coal company just doesn't make sense to me, the industry outlook is dire. Maybe Teck Resources adds some diversity risk, with the ever slumping copper, zinc, and met coal.

 

You guys could look into Cloud Peak (CLD). Supposedly well managed, low cost operator who has been focused on debt reduction for years now. Hasn't paid a dividend, cash flows seem decent, and debt load remains manageable. Despite this, the stock is down some 60% in just the last 8 months or so and more before that. That may be a good place to start looking in coal.

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Here are some things that have changed since my original posting.

 

1. Their Canadian assets have come under pressure since Alberta stated they will become coal free by 2030. Most of their assets were planning to close earlier than this date, and according to their last conference call their largest contributor of EBITDA stemmed from their Saskatchewan mine, it is difficult to see how this will not affect their EBITDA going forward.  See TransAlta, their main Alberta customer for more information on Alberta.

 

2. Their smaller Ohio mines had slowed down production because of a major customer had prolong outage due to maintenance. This surprised me since they adjusted their guidance down 15M because these smaller mines. I thought WLB had contracts that sheltered them from such large losses but not all their contracts are created equal. This  problem intensifies when you think of their Canadian operation, a much bigger operation than these Ohio mines. I'm looking forward to their 2016 guidance for more clarity on this.  Also, WLB was suppose to release a press release in the middle of last month saying their customer was back in operation, this has yet to happen.

 

3. Their San Juan acquisition has not been completed yet. They have listed proforma numbers, and it looks like an attractive acquisition but the transaction is still being kept by regulatory issues that should be resolved by the end of the month. The acquisition not being completed is massively compounded by the fact the market has pounded WLB's cost of capital in the last couple of months. How will they be able to reasonable fund this acquisition?

 

4. Their CEO, who has helped transform WLB into what it is today, is on medical leave and will not come back as the CEO. The CFO will take over the CEO position. It is not yet apparent if the CFO can handle the job or all the new difficulties WLB is facing.

 

The investor I mentioned originally, Frischer, has cut his stake in half with today's filing, I'm thinking he is asking the same thing I am. Is WLB a deep value stock or a value trap?

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Interesting update of thoughts. I'll have to look at the pro forma numbers, but management focuses too much on adjusted EBITDA. We all see how adjusted numbers like this can really obscure business results.

 

Also, looks like arch coal and possibly peabody are getting ready for BK. We'll see how the market responds to that.

 

In terms of CLD, they are still living on a prayer that they can export Western coal...just don't see a reversal anytime soon.

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